Whether you are embarking on a new business venture or relocating an existing business (perhaps to grow, move to a preferred location or to save costs), it is important to know what you are signing up to before taking a new commercial Lease. The rent alone is usually a big financial commitment, but you need to watch out for other potentially onerous terms and ensure you fully understand the Tenant’s obligations in the Lease. This is where we can help.
The Lease is the contractual document which gives the Tenant the right to occupy the property and sets out the terms and conditions the occupation is subject to. Here we set out 10 key points which should be considered when taking a new commercial Lease.
Firstly, it is important to consider the length of the term you require. A longer term will give you greater security which may be particularly important if you will be putting a lot of work into fitting out the property, but a shorter term offers greater flexibility to move if you wish to expand or relocate in the future. A compromise may be to agree to break clause with the Landlord (see point 3 below). Also, the length of the term may affect the amount of stamp duty land tax payable (on the rent and any VAT) and if the term is over 7 years the Lease will need to be registered at the Land Registry.
2. Security of Tenure
The security of tenure provisions in the Landlord and Tenant Act 1954 give most business tenants an automatic right to a new Lease at the end of the term and the Landlord will only be able to refuse this right on a limited number of grounds. However, the parties can ‘contract out’ of these provisions (i.e. the Tenant waives its statutory right to renew the Lease). It is common for Landlords to require shorter Leases to be ‘contracted out’ as it gives them more control at the end of the term, but you should think carefully before giving up this valuable right especially if you’ve found the perfect property for your business.
If the Lease is to be ‘contracted out’, the Landlord must serve a prescribed notice on you and you will need to make a declaration to confirm that you accept the consequences of entering into a Lease that does not have security of tenure. It is important that you fully understand the implications of this.
"If the Lease is to be ‘contracted out’, the Landlord must serve a prescribed notice on you and you will need to make a declaration to confirm that you accept the consequences of entering into a Lease that does not have security of tenure. "
3. Break Clause
A break clause is a provision that allows the Tenant or the Landlord (or both) to terminate the Lease before the end of the term by serving an agreed period of notice on the other party. The Lease may be terminated on a fixed break date(s) (for example, on the third anniversary of the term) or on a rolling basis (i.e. on any date during the term provided the agreed period of notice is given). A Tenant’s break clause can be very useful if the Lease is for a long term and you may need to exit the property early. However, a Landlord’s break clause could be very inconvenient.
The Landlord may try to include onerous conditions that must be met before the Tenant’s break can be exercised, for example compliance with all the obligations in the Lease. Recent case law has established that any conditions will need to be strictly complied with, but 100% compliance at times can be near impossible. Therefore, ideally a break clause should be unconditional or any conditions should be kept to an absolute minimum to ensure you can bring the Lease to an end as easily as possible without having to jump through complicated hoops.
4. Rent and Rent Review
The level of the rent is obviously important, but you should also consider whether VAT will be charged on the rent and whether any rent-free period is agreed (this should be properly documented).
It is common in longer Leases for the Landlord to require a rent review. This allows the Landlord to change the amount of the initial rent after an agreed period of time, either by a fixed increment, by reference to an open market valuation or in line with any change in an Index (usually the Retail Prices Index). Unfortunately, Landlords generally require the rent review provisions to be ‘upwards only’ so the rent is never less than it was at the start of the term (i.e. you would not benefit if market rents or inflation falls).
"The level of the rent is obviously important, but you should also consider whether VAT will be charged on the rent and whether any rent-free period is agreed (this should be properly documented)."
5. Service Charge
Where the property is part of a building, the Landlord may require you to pay a service charge to cover building expenses (such as lighting, heating, maintenance of common areas and repair of structural parts). The Lease will specify how the amount is to be calculated. It is important to watch out for a ‘sinking fund’ (i.e. the Landlord’s ability to collect a reserve sum for any major expense or unexpected costs in the future), especially if you are only taking a short-term Lease.
The Landlord should provide copies of the service charge accounts from previous years which can give you an idea of the likely costs you may be asked to pay. In addition, you may be able to agree a service charge ‘cap’.
6. Permitted Use
The Lease will usually state the property can only be used for a specific purpose and it is important to ensure this is wide enough to cover your business needs. It is common for a Lease to allow the property to be used for other purposes (within the same planning ‘Use Class’) with the Landlord’s consent to give some flexibility; this may be essential if you wish to transfer the Lease to another business in the future. On the other hand, a restrictive user clause can affect the open market rental value of the property which could be beneficial to you if the Lease contains an open market rent review.
Most Landlords will require the Tenant to be responsible for maintaining and repairing the property, but it is important to check so you understand exactly what you are responsible for. For example, the repair obligation may require you to put the property into a good state of repair even if it was in a poor condition at the start of the Lease - this can be very onerous and costly.
It is always advisable to inspect the property and obtain a survey before entering into a Lease.
You may be able to limit your repairing obligation by reference to a Schedule of Condition (so it is clear you do not have to put the property into any better condition than as evidenced) or by excluding liability for certain items (such as inherent defects or any items of disrepair identified by your surveyor).
The Lease may require you to obtain consent from the Landlord before carrying out any works/alterations to the property. If you need to carry out any fit-out works to make the property suitable for your business, it would be advisable to obtain any necessary consents before committing to the Lease. You may need to prepare and provide the Landlord with a specification and plans showing the proposed works.
The Lease will usually provide for the property to be reinstated to its original configuration before the end of the term so any departure from this should be specifically negotiated.
"If you need to carry out any fit-out works to make the property suitable for your business, it would be advisable to obtain any necessary consents before committing to the Lease. "
It is common in commercial Leases for the Landlord to insure the property and the Tenant to reimburse the insurance costs. If so, the Lease should contain obligations on the Landlord and rent suspension/Lease termination provisions in the event the property is damaged by an insured risk to ensure you are not left with a property unfit for occupation and no way out of the Lease.
10. Dealings with the Lease (assignment and subletting)
If you need to move during the term, then you may want to transfer your interest in the Lease to a new tenant (assignment) or allow someone else to use part or the whole of the property by way of a sublease. In the absence of a break clause, this may be your only ‘get out’. A Tenant is usually only permitted to assign or sublet subject to complying with the Landlord’s conditions, but it is important to check these conditions are not too restrictive and you retain the ability to adapt to changing business needs.
Commercial Leases are complex and there is not a one-size fits-all document. It is important to take advice and ensure the terms are tailored to your business needs to avoid any problems in the future.
If you have any queries or would like assistance in relation to a new Lease or any other commercial property matters, please contact Emma Cole (firstname.lastname@example.org, 01454 312125). For a reduced fee, we can prepare a ‘key risks report’ on a draft Lease for you to consider.